Selling your Business to Private Equity Groups (PEG)
If you are selling your business, it’s important to know that right now private equity groups (PEGs) have significant un-invested capital available. They’re actively pursuing new investments in small and middle market companies. This sophisticated buyer is becoming an important strategic buyer to a business owner looking to sell, and business sellers should be aware of the more complex approach of a PEG — along with their unique characteristics.
Selling your business to a private equity group (PEG) can be a wise exit strategy for a business owner who is looking to get substantial liquidity out of the company but wants to retain some operational control.
Review the following for ideas on how to best position your business for sale to a PEG.
The Seller’s Expectations When a Private Equity Company Shows Interest in Buying Your Company
Sacramento business advisor Andrew Rogerson says that you should expect to “pull your socks up” and deliver the details that they’ll request. Typically, PEGs will ask for an 80% stake in your company, with you keeping the remainder. In addition to continuing to be involved with the business, when the PEG is selling your business five to seven years down the road (which is what they will typically do), your 20% share will be worth significantly more… maybe even worth as much as what the PEG originally paid. This second sale is known as getting “a second bite from the apple.”
After an initial meeting, the PEG will request some preliminary financial and operational information. Be certain that they sign a nondisclosure agreement prior to delivering the information. After the PEG reviews your business information, and the they like the numbers, they’ll present you with a letter of intent (LOI), which is a nonbinding offer. The LOI is based on the investment value of your company. This is typically factored as an industry-standard multiple of the adjusted EBITDA, or free cash flow. Remember that this figure will be less than what’s known as the “synergy value,” which is the price that a competitor or strategic buyer in a related industry might be willing to pay—that’s going to be the price the PEG will want for your company when they sell it in the future.
Be Prepared for Private Equity-Style Due Diligence
Due diligence with a PEG can be much more exhaustive that a typical sale because private equity groups want to be as knowledgeable as possible about the company in which they’re investing.
Private equity groups and their advisors will want to review every nook and cranny of your business…they’ll want to use any negative detail they discover as leverage in the negotiations for a reduction in the purchase price stated in the LOI. Be prepared.
This scorched earth due diligence can result in distracting you and your managers for a substantial amount of time. It could lead to your business falling off, further reducing the price of the deal. Or it could cause the entire sale to be scrapped. To avoid this prospect, you need to engage a business transaction expert like Andrew to take charge of the due-diligence process. This will help you even the field with a PEG that has a host of staff to do this work.
It’s also a good idea for a seller to perform due diligence on their potential PEG purchasers. This should include understanding the value they will bring in addition to their capital. Check on their operating resources, historical performance, and other investments. Also, see if they have other partners with successful experiences working with the PEG.
In addition, consider whether the PEG is a real financial sponsor or “strategic” investor. Private equity groups acquire businesses as new investments or add-ons to current investments. You should understand a PEG’s reasoning for buying your business because this frequently will impact the terms the PEG wants in the transaction framework. If a PEG is buying your business as an add-on to one of its current portfolio companies, it’s more like a strategic buyer and will most likely have a different approach from a PEG acquiring the business solely as a new investment.
A PEG investing in a new platform can bring challenges to the transaction process. Likewise, bank financing may add another hurdle of complexity and scrutiny for a transaction. As a seller, you and your business advisor need to have a grasp of the approvals a PEG will need to close a deal, conditions (e.g., investment committee approval) are contingent for closing the deal, and the expectations for diligence and the timetable.
The Seller’s Expectations after a Sale to a Private Equity Company
Typically, a PEG will offer the seller an employment contract to remain in a management position, usually tied to the PEG’s performance expectations. Because PEGs pay for their acquisitions with highly-leveraged secured bank loans or unsecured financing, they’ll put these debts on the company’s balance sheet. Along with management fees, this debt puts some heavy pressure on profitability and cash flow.
Your business will sell for much more to a PEG with experienced help, which Andrew Rogerson is happy to provide. To discuss issues with selling a business in the Sacramento area, please visit our website and choose from the drop-down menu the information you’d like.
For more immediate help, please send an email to Andrew or call him at (916) 570-2674.